Medicare Adjusted Average Per Capita Costs (AAPCC)

Since Health Maintenance Organizations (HMOs) do not have a claims database, they were at a disadvantage in participating in rating Medicare when it was introduced in 1965. After a number of largely unsuccessful efforts, Medicare implemented in 1985 the Adjusted Average Per Capita Costs (AAPCC) payment methodology under authorization from Congress in the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA). There is a history of Medicare’s approaches to paying managed care plans in its first 35 years.

Under TEFRA, Medicare essentially paid participating HMOs a fixed dollar amount for each beneficiary that chose to join the plan. Because HMOs were thought to be more efficient than traditional care providers, the legislation prescribed that the capitated rate should be 95 percent of the average Medicare Part A (i.e., hospital) plus Part B (i.e., ambulatory) expenditures per beneficiary. As we speculated ipreviously, claims experience likely varies by location. Congress appreciated this as well and ordered that the average expenditures be computed and applied for each county. These rates were then adjusted by the mix of beneficiaries the plan enrolled, taking into account their age, gender, Medicaid status, whether or not they were in a nursing home, and whether the beneficiary was an active worker with coverage through an employer. Thus, the AAPCC paid 95 percent of the county average Medicare Part A and Part B expenditures adjusted for age, gender, Medicaid, institutional, and active worker status. This is analogous to a simple manual rating system.

As we saw, the Medicare payment system appears to provide HMOs with substantial incentives for enrolling people with lower-than- average expected claims and avoiding people with above-average claims. One government study found that Medicare HMO enrollees had expenditures that were only 63 percent of the average of all beneficiaries in the six months prior to joining the HMO (Prospective Payment Assessment Commission 1996). If this is so, Medicare is consistently overpaying for the services provided by Medicare HMOs, and higher-cost beneficiaries may be effectively denied access to a form of healthcare delivery that they may prefer.